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This article is from the Casey Research website. Read the second article down from the top:
It’s safe to say that most of the Casey Research team are contrarian by nature and in practice. The reason is simple. Once everyone comes to believe that something is going to happen, then they’ll act in accordance with that belief. In investment terms, that means placing bets. For a while, the outcome becomes something of a self-fulfilling prophecy, until the point where pretty much everyone who is going to invest, has invested. At which time there’s little juice left in the trade.
That’s where the contrarian steps in with his opposing view and investment. That’s because, with everyone all in, the most likely next move will be a reversal that ultimately triggers a scramble to disinvest – once again resulting in a self-fulfilling prophecy, but one that provides the contrarian with outsized profits.
When viewed through that lens, the case for gold these days is interesting. Despite a lot of chatter and interest in the yellow metal within the community of what might be termed hard-asset investors, the broader investing universe knows little of gold and owns even less. I suspect that if you polled your ten closest friends and colleagues, you’d find that nine of them own no physical gold, no gold ETFs, and no gold stocks. “Too risky,” they might add with a harrumph.
Thus, while the price of gold has marched upwards relatively steadily over the past eight years and is breaking to new highs as I write, it would be a gross misstatement to say that it’s overbought.
Which brings me to the question of the U.S. stock market.
As readers of more than a few days will know, I don’t put a lot of stock in the institutions of our degraded democracy. What’s going on in Washington today is akin to a warped game where one team does everything it can to undermine the other, based on no real principles other than getting elected. The cost of the game is borne by none of the players, but by the people they are supposed to be serving. That cost can be seen in the insane levels of debt and the seemingly permanent state of war this country has been in for most of the 50-plus years I’ve been alive.
Now, that may seem off the topic of the outlook for the U.S. stock market, but I can assure you it’s not. For the Democrats to avoid being soundly thrashed in the inning scheduled for this November, they must first and foremost avoid any further bad news for the economy between now and then. And nothing shouts bad news louder than a stock market crash.
Yet, there is strong sentiment among the professional trading community that a stock market crash is just what’s coming – and a big one. On that topic, there was this out of Bloomberg yesterday.
Futures on the Chicago Board Options Exchange Volatility Index are pricing in a three-month gain of 31 percent and contracts based on swings in Europe and emerging-market equities have risen to near records, data compiled by Bloomberg show.
Translated, futures and options traders are expecting a lot of volatility in the near term.
Today’s gold price action, which has now decisively broken out on the upside – to over $1,270 per ounce – is also signaling a run for safer harbors. The underlying causes were an unexpected stumble in the German manufacturing sector – the only real lantern of hope in the eurozone – as well as increasing expectations that the Fed will buy up another $1 trillion in Treasuries.
Adding a few sticks to the fire, a persistent inflation has taken hold in the UK, running ahead of the government’s 3% target for the sixth month in a row.
“Wait a minute, chappie,” you might hear some old member mumble down at the club, “I thought it was deflation we were supposed to be worrying about?”
But I digress.
Given the highly politicized nature of U.S. economy and investment markets, we have to expect the Democrats will take desperate measures to try and prop up the stock market through the November elections.
Now, I’m not going to go on record as suggesting that those measures will include anything so devious as the sub rosa existence of a plunge protection team. I have no direct proof of it, though the Teflon-covered stock market of recent weeks – a market that bad news simply slides off, which is the case again today – does give one pause.
More overtly, however, we are able to see the latest political play unfold, in which the Democrats have suddenly decided to reverse themselves on the Bush tax moratorium that they so strongly derided during their presidential electioneering. Sure, if their proposal is passed, the moratorium will be extended only for those who make under $250,000 – but that can only be cheering for stock markets. And they have cleverly invited the Republicans to join them in this initiative, expressing dismay that the Republicans would stand in the way by insisting that America’s fattest cats – those who earn over $250,000 – enjoy the same extension.
That has put the Republicans in the uncomfortable position of having to defend the wealthy (heavens forbid!), while being seen to be obstructionist and penalizing the middle class (voters).
Good move by the Democrats.
In the end, it is almost certain that the Republicans are going to have to roll over on this issue – giving the Democrats the round as champions of said middle class. Or perhaps the Democrats are going to have to give in to the Republicans, saying as they do that at least they fought the good fight.
Either way, the news of the tax relief extension for some, or all, of a significant constituency can only be seen as a positive development for the economy and the stock market.
Though I am sure that the market is already pricing in some sort of an extension – should it be granted, the market could put in a solid surge.
What other moves might the Democrats make?
At this point, I can’t tell – but I do think it’s safe to say that they’ll do whatever they can to prop up the stock market until November. Which makes taking a bearish bet on the market just now a risky proposition. Especially given the large number of net speculative short positions now on against the stock market… you can see the elevated quantity of net short positions in the newspaper clipping just here.
If the market continues to weather the storms or bounces on a tax extension, then a classic short squeeze could occur. In other words, short sellers will be forced to buy in order to cover their positions, sending the market sharply higher, economic realities be damned.
And that added bounce could give the Democrats the cushion they need to make it through the elections.
What happens after the elections? Anyone’s guess, but the Fed’s buying of a trillion dollars worth of Treasuries is certainly in the ballpark. That’s because President Obama, as skilled a political player as has made it to the big game in decades, is almost certainly already laying out dramatic plans to ensure that he doesn’t strike out and get sent home after just one term.
Whatever he’s going to do, he’s going to need to do it with extra vigor, and he’s going to need to do it soon after the November elections.
It should be a wild ride. For the time being, however, if you’re short, be careful.
http://www.caseyresearch.com/displayCdd.php?id=535
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